Analysts must not be browbeaten by the French ruling

By Richard Siklos

12:01AM GMT 18 Jan 2004

Analysts must not be browbeaten by the French ruling

By Richard Siklos

(Filed: 18/01/2004)

Now's the time for equity analysts to show whether they have spines. Will they stick to their guns after the chilling ruling by a French court that Morgan Stanley must pay at least €30m in damages for publishing critical research comments about LVMH, the leather and luxury goods empire?

The "machers" at America's second-largest securities firm see last week's judgment as apocalyptic. Stephan Newhouse, Morgan Stanley International's chairman, warns that "the judgment has very serious implications in France for freedom of speech and analyst independence and threatens the very existence of analysts".

The judges in effect found Morgan Stanley and its respected analyst Claire Kent guilty of trying to sabotage LVMH's stock price on behalf of its rival Gucci. There is bad blood here, stemming from the fact that Morgan Stanley's investment bankers earned millions in fees from representing Gucci and keeping it out of LVMH's clutches in a hostile takeover battle in the late 1990s (instead, Gucci fell into the hands of LVMH's nemesis Pinault-Printemps-Redoute).

So the basic gist of the ruling is that Kent was a pawn of her investment banking cousins and that this is yet another example of the failure of the "Chinese walls" intended to separate investment banking from research.

"Morgan Stanley seriously and repeatedly failed in its duties of independence, impartiality and rigour and was guilty of denigration of LVMH," the judges wrote in their ruling after the 14-month court battle.

But intriguingly, LVMH actually managed to win its case (for now at least, since Morgan Stanley has vowed to appeal) without destroying the reputation of Kent, who for the past six years has been named Institutional Investor's top-rated European luxury goods analyst.

Unlike the New York Attorney General Eliot Spitzer's sensational investigations into analyst malfeasance on Wall Street, LVMH's case did not hinge on any smoking guns - documents or embarrassing e-mails of the sort that Henry Blodget (late of Merrill Lynch) or Jack Grubman (formerly of Salomon Smith Barney) sent, in which they basically admitted that some of their research conclusions were bollocks.

Although Morgan Stanley had to ante up $125m into the $1.4bn global settlement with Wall Street banks that Spitzer engineered last year, it has tried to position itself as slightly above the fray and has neither claimed innocence nor admitted guilt.

Blodget and Grubman are banished, but Morgan Stanley's one-time star internet analyst, Mary Meeker, is still on the payroll - and her bosses have steadfastly adhered to a party line that its analysts write only what they believe (even if, from time to time, they are wildly off the mark).

Meanwhile Kent continues to cover LVMH. Her latest LVMH research update, published in October, called the company "fully valued" and set a target price for its shares of €50 when they were trading at around €58. Last Friday they stood at €61, which makes one wonder how "influential" any one analyst is anyway.

As for Spitzer, he was surprised at the way his efforts have been interpreted by the French, and told the New York Times: "To the extent that the French court found liability without finding that the analyst misrepresented her opinion, I disagree with the finding."

What LVMH has actually managed to do is shift the research story away from one of analysts touting stocks they don't rate to one in which they are now forced to defend their right to make negative comments.

Newhouse is correct to say there is much at stake, because the ruling calls into question the viability of Morgan Stanley's integrated business model, the combination of investment banking and stockbroking - and not even Spitzer's reforms managed that.

Reverberations from the ruling are already being felt. Sodexho Alliance, the French catering giant, last week asked French regulators to investigate the work of a Smith Barney analyst who apparently goofed on interpreting some of Sodexho's figures (and then corrected his mistake).

Some are wondering if the big banks will drop research coverage of French companies altogether. So this is the moment for analysts to prove to the sceptics that they are not pathetic weaklings: they've got to keep making those negative comments and sell recommendations.

Mergers breed mergers

Score one for the Midtown View mergers and acquisitions crystal ball. Two weeks ago we predicted that Bank One, the sixth-largest financial firm in the US, would be swept up in the coming stateside M&A boom.

Last week JP Morgan Chase fulfilled the prophecy in a $58bn deal that neatly solves its strategic challenges. JP Morgan has two big issues: an over-reliance on volatile derivatives income and a lack of a succession plan for CEO William Harrison.

Now Morgan gets its hands on Bank One's sizeable consumer banking business and the services of Jamie Dimon, the one-time protege of Citigroup's Sandy Weill, who joined the company as a fix-up project in 2000.

Harrison is 60 and Dimon only 47, and already there has been much chuffing about how Weill and Citi had better watch their backs. But the true rival for this new leviathan is not Citi but Bank of America, which has a much closer business profile to JP Morgan-Bank One.

And, as we predicted, Bank of America could still do a linkup of its own with Wachovia, US Bancorp, or possibly an investment bank like the above-mentioned Morgan Stanley. Nothing breeds more deals than deals.

In any case, the real news is Dimon's return to the big time. JP Morgan's shares gained 30 cents on news of the deal, but as one arb put it to me: "If JP Morgan announced that Harrison was resigning and they had hired Jamie Dimon as the new CEO, the stock would have been up a few bucks."